THIS CIRCULAR IS IMPORTANT AND REQUIRES YOUR IMMEDIATE ATTENTION If you are in any doubt as to any aspect of this circular, or as to the action to be taken, you should consult a licensed securities dealer, bank manager, solicitor, professional accountant or other professional adviser. If you have sold or transferred all your shares in Cathay Pacific Airways Limited, you should at once hand this circular to the purchaser or transferee or to the bank, licensed securities dealer or other agent through whom the sale or transfer was effected for transmission to the purchaser or transferee. The Stock Exchange of Hong Kong Limited takes no responsibility for the contents of this circular, makes no representation as to its accuracy or completeness and expressly disclaims any liability whatsoever for any loss howsoever arising from or in reliance upon the whole or any part of the contents of this circular. Cathay Pacific Airways Limited (Incorporated in Hong Kong with limited liability) (Stock Code: 293) Major Transaction Purchase of 12 Boeing 777-300ER Aircraft 22nd December 2005
DEFINITIONS In this circular the following expressions have the following meanings unless the context requires otherwise: Air China Board Boeing Aircraft Purchase Agreement Boeing Cathay Pacific or CX or Company CITIC CPAS Directors Group Air China Limited, a company incorporated in the People s Republic of China and listed on the Stock Exchange, whose principal activity is the operation of scheduled airline services. The board of Directors. 12 Boeing 777-300ER aircraft to be purchased by CPAS pursuant to the Purchase Agreement. The aircraft purchase agreement dated 14th December 2005 entered into by CPAS and Boeing pursuant to which CPAS has agreed to purchase and Boeing has agreed to sell the Boeing Aircraft. The Boeing Company, a corporation organised and existing under the General Corporation Law of the State of Delaware, U.S.A., the principal activity of which is aircraft manufacturing. Cathay Pacific Airways Limited, the principal activity of which is the operation of scheduled airline services. CITIC Pacific Limited, a company incorporated in Hong Kong and listed on the Stock Exchange. Cathay Pacific Aircraft Services Limited, a company incorporated in the Isle of Man and wholly owned by Cathay Pacific, the principal activity of which is to act as an aircraft acquisition facilitator. The directors of Cathay Pacific. Cathay Pacific and its subsidiaries. HAECO Hong Kong Aircraft Engineering Company Limited, a company incorporated in Hong Kong and listed on the Stock Exchange, whose principal activity is the provision of overhaul and maintenance services for commercial aircraft. Latest Practicable Date Listing Rules Model Code 15th December 2005, being the latest practicable date prior to the printing of this circular for ascertaining certain information referred to in this circular. Rules Governing the Listing of Securities on the Stock Exchange. Model Code for Securities Transactions by Directors of Listed Companies, being Appendix 10 of the Listing Rules. - 2 -
DEFINITIONS SFO Shareholders Stock Exchange Swire TAECO Transaction Securities and Futures Ordinance (Chapter 571 of the Laws of Hong Kong). The shareholders of the Company. The Stock Exchange of Hong Kong Limited. Swire Pacific Limited, a company incorporated in Hong Kong and listed on the Stock Exchange. Taikoo (Xiamen) Aircraft Engineering Company Limited, a non-wholly owned subsidiary of HAECO incorporated in the People s Republic of China, whose principal activity is the provision of overhaul and maintenance services for commercial aircraft. The purchase by the Company of the Boeing Aircraft pursuant to the Purchase Agreement. - 3 -
LETTER FROM THE BOARD CATHAY PACIFIC AIRWAYS LIMITED (Incorporated in Hong Kong with limited liability) Executive Directors David Turnbull (Chairman) Robert Atkinson Philip Chen Derek Cridland Tony Tyler Non- Executive Directors Martin Cubbon Henry Fan James Hughes-Hallett Vernon Moore Raymond Yuen Carl Yung Zhang Xianlin Registered Office: 35th Floor Two Pacific Place 88 Queensway Hong Kong Principal Office: 7th Floor, North Tower Cathay Pacific City 8 Scenic Road Hong Kong International Airport Lantau Hong Kong Independent Non-Executive Directors Peter Lee Raymond Or Jack So Tung Chee Chen To the Shareholders 22nd December 2005 Dear Sir or Madam, Major Transaction Purchase of 12 Boeing 777-300ER Aircraft INTRODUCTION Reference is made to the Company s announcements dated 1st and 14th December 2005 respectively regarding the Purchase Agreement entered into by CPAS and Boeing on 14th December 2005, pursuant to which CPAS has agreed to purchase 12 Boeing 777-300ER aircraft from Boeing. The Transaction constitutes a major transaction of the Company under the Listing Rules. The purpose of this circular is to set out further details of the Transaction. - 4 -
LETTER FROM THE BOARD PURCHASE AGREEMENT dated 14th December 2005 (1) Parties to the Transaction (i) CPAS, as the purchaser (ii) Boeing, as the vendor To the best of the Directors knowledge, information and belief having made all reasonable enquiries, Boeing and its ultimate beneficial owner are third parties independent of and not connected with Cathay Pacific or any of its connected persons. (2) Aircraft to be acquired Boeing Aircraft, i.e. 12 Boeing 777-300ER aircraft. As at the Latest Practicable Date, the Company s fleet totals 95 aircraft, comprising 82 passenger aircraft and 13 freighter aircraft. (3) Consideration According to the information provided to the Company by Boeing, the catalogue price of the Boeing Aircraft in aggregate is approximately US$2,850 million. The aggregate consideration payable for the Boeing Aircraft, which is determined after arm s length negotiations between the parties, is lower than such catalogue price. (4) Payment and delivery terms The consideration for the purchase of each of the Boeing Aircraft is payable in cash in six instalments, with the first five instalments to be paid prior to delivery of each aircraft and the balance, being a substantial portion of the consideration, to be paid upon delivery of the aircraft. The Company is expecting to take delivery of the Boeing Aircraft in stages from 2007 to 2010. (5) Source of funding The Transaction will be funded through commercial bank loans, other debt instruments of the Company and/or cash generated from the Company s business operations. (6) Reasons for, and benefits of, the Transaction The Boeing Aircraft will replenish and expand the fleet capacity of the Company. They will principally serve long-haul destinations in North America and Europe. The Company expects that the Boeing Aircraft will deliver improved payload range capability at competitive operating costs whilst providing high standards of passenger comfort and safety. The Directors consider that the terms of the Transaction are fair and reasonable and in the interests of the shareholders as a whole. - 5 -
LETTER FROM THE BOARD (7) Shareholders approval As the relevant percentage ratio under Rule 14.07 of the Listing Rules for the Transaction is above 25% but less than 100%, the Transaction constitutes a major transaction and is therefore subject to approval by the Company s shareholders under the Listing Rules. The Company has received written approval for the Transaction from a closely allied group of shareholders, namely Swire and CITIC which currently own 1,566,233,246 shares (46.33%) and 859,353,462 shares (25.42%) respectively of the issued share capital of the Company. Swire and CITIC are connected persons of each other. Each of Swire and CITIC and their associates does not have any interest in the Transaction other than as a shareholder of the Company (where applicable). No shareholder would be required to abstain from voting if the Company were to convene a general meeting pursuant to Rule 14.44 of the Listing Rules and therefore the Company will not be convening a shareholders meeting to approve the Transaction. EFFECT OF TRANSACTION As mentioned above, the Transaction will be financed by commercial bank loans, other debt instruments of the Company and/or cash generated from the Company s business operations. The Transaction will therefore increase the Group s fixed assets and liabilities. The Transaction may also result in an increase in the Group s debt-to-equity ratio. The total cash outflow of the Company in the next twelve months in respect of the Transaction is approximately US$88 million. However, the Company does not expect the Transaction to have any material negative impact on its cash flow position or its business operations. Save as described above, the Transaction is not expected to have any material impact on earnings, assets and liabilities of the Group. FINANCIAL AND OPERATIONAL PROSPECTS As disclosed in the annual report of the Company dated 9th March 2005, for the financial year ended 31st December, the Group s total turnover reached HK$39,065 million, representing an increase of 32.1% over. The Directors consider that rising aviation fuel prices and increased competition in the airline business will present new challenges for the Group. However, the Directors view the future prospects during the current financial year of the Company with confidence and believe that the Group is well placed to continue to develop its business in line with its strategy. WORKNG CAPITAL After taking into account the financial resources available including liquid funds, internally generated funds and available banking facilities, the Directors are of the opinion that the Group, in the absence of unforeseen circumstances, will have sufficient working capital for the next 12 months following the date of this circular. - 6 -
LETTER FROM THE BOARD ADDITIONAL INFORMATION Your attention is also drawn to the information set out in the appendices to this circular. By order of the Board Cathay Pacific Airways Limited David Turnbull Chairman - 7 -
I. SUMMARY OF CONSOLIDATED FINANCIAL STATEMENTS The following audited consolidated profit and loss accounts of the Group for the three years ended 31st December and the consolidated balance sheets of the Group as at 31st December, and 2002 are extracted from the Company s annual reports for the year ended 31st December, and 2002. CONSOLIDATED PROFIT AND LOSS ACCOUNT For the years ended 31 December Turnover 2002 Passenger services 26,407 18,663 22,376 Cargo services 11,395 9,913 9,387 Catering and other services 1,263 1,002 1,327 Total turnover 39,065 29,578 33,090 Expenses Staff (8,842) (8,035) (7,918) Route (6,890) (5,416) (6,113) Fuel (7,836) (5,236) (4,895) Aircraft maintenance (3,784) (2,856) (3,312) Depreciation and operating leases (5,170) (4,860) (4,720) Commissions (529) (400) (501) Others (767) (550) (881) Operating expenses (33,818) (27,353) (28,340) Operating profit 5,247 2,225 4,750 Finance charges (1,628) (1,807) (2,421) Finance income 1,045 1,187 1,678 Net finance charges (583) (620) (743) Share of profits of associated companies 356 151 324 Profit before tax 5,020 1,756 4,331 Taxation (504) (409) (328) Profit after tax 4,516 1,347 4,003 Minority interests (99) (44) (20) Profit attributable to shareholders 4,417 1,303 3,983 Dividends Interim paid 674 100 534 Final proposed 1,517 572 935 Special paid - 943 - Earnings per share 2,191 1,615 1,469 Basic 131.4 39.0 119.5 Diluted 130.7 38.8 118.7 Dividend per share 65.0 48.0 44.0-8 -
CONSOLIDATED BALANCE SHEET As at 31st December 2002 ASSETS AND LIABILITIES Non-current assets and liabilities Fixed assets 51,808 51,357 50,038 Intangible assets 348 405 489 Investments in associated companies 1,743 1,661 1,739 Other long-term receivables and investments 4,076 1,263 1,458 57,975 54,686 53,724 Long-term liabilities (27,698) (33,022) (31,382) Related pledged security deposits 10,036 11,604 12,853 Net long-term liabilities (17,662) (21,418) (18,529) Retirement benefit obligations (102) (181) (346) Deferred taxation (7,280) (7,762) (7,614) (25,044) (29,361) (26,489) Net non-current assets 32,931 25,325 27,235 Current assets and liabilities Stock 524 398 430 Trade and other receivables 5,311 4,753 4,294 Liquid funds 11,474 15,200 13,180 17,309 20,351 17,904 Current portion of long-term liabilities (7,096) (6,754) (6,409) Related pledged security deposits 2,127 1,875 2,128 Net current portion of long-term liabilities (4,969) (4,879) (4,281) Trade and other payables (7,163) (5,543) (5,280) Unearned transportation revenue (3,622) (2,839) (2,518) Taxation (1,497) (1,259) (874) (17,251) (14,520) (12,953) Net current assets 58 5,831 4,951 Total assets less current and non-current liabilities 32,989 31,156 32,186 Minority interests (134) (104) (71) Net assets 32,855 31,052 32,115 CAPITAL AND RESERVES Share capital 674 669 667 Reserves 32,181 30,383 31,448 Shareholders funds 32,855 31,052 32,115-9 -
II. CONSOLIDATED FINANCIAL STATEMENTS FOR THE YEAR ENDED 31 DECEMBER The following audited financial statements of the Group are extracted from the Company s annual report for the year ended 31st December. All such financial information should be read in conjunction with the Company s annual report. CONSOLIDATED PROFIT AND LOSS ACCOUNT for the year ended 31st December Turnover Note US$M US$M Passenger services 26,407 18,663 3,386 2,393 Cargo services 11,395 9,913 1,461 1,271 Catering and other services 1,263 1,002 162 128 Total turnover 2 39,065 29,578 5,009 3,792 Expenses Staff (8,842) (8,035) (1,134) (1,030) Route (6,890) (5,416) (883) (695) Fuel (7,836) (5,236) (1,005) (671) Aircraft maintenance (3,784) (2,856) (485) (366) Depreciation and operating leases (5,170) (4,860) (663) (623) Commissions (529) (400) (68) (51) Others (767) (550) (98) (71) Operating expenses (33,818) (27,353) (4,336) (3,507) Operating profit 3 5,247 2,225 673 285 Finance charges (1,628) (1,807) (209) (231) Finance income 1,045 1,187 134 152 Net finance charges 4 (583) (620) (75) (79) Share of profits of associated companies 12 356 151 46 19 Profit before tax 5,020 1,756 644 225 Taxation 5 (504) (409) (65) (52) Profit after tax 4,516 1,347 579 173 Minority interests (99) (44) (13) (6) Profit attributable to shareholders 6 4,417 1,303 566 167 Dividends Interim paid 7 674 100 86 13 Final proposed 7 1,517 572 194 73 Special paid 7-943 - 121 Earnings per share 2,191 1,615 280 207 Basic 8 131.4 39.0 16.8 5.0 Diluted 8 130.7 38.8 16.8 5.0 Dividend per share 7 65.0 48.0 8.3 6.2 The US$ figures are for information only and are translated at HK$7.8. - 10 -
CONSOLIDATED BALANCE SHEET at 31st December Note US$M US$M ASSETS AND LIABILITIES Non-current assets and liabilities Fixed assets 9 51,808 51,357 6,642 6,584 Intangible assets 10 348 405 45 52 Investments in associated companies 12 1,743 1,661 223 213 Other long-term receivables and investments 13 4,076 1,263 523 162 57,975 54,686 7,433 7,011 Long-term liabilities (27,698) (33,022) (3,551) (4,234) Related pledged security deposits 10,036 11,604 1,287 1,488 Net long-term liabilities 14 (17,662) (21,418) (2,264) (2,746) Retirement benefit obligations 15 (102) (181) (13) (23) Deferred taxation 16 (7,280) (7,762) (934) (995) (25,044) (29,361) (3,211) (3,764) Net non-current assets 32,931 25,325 4,222 3,247 Current assets and liabilities Stock 524 398 67 51 Trade and other receivables 17 5,311 4,753 681 609 Liquid funds 18 11,474 15,200 1,471 1,949 17,309 20,351 2,219 2,609 Current portion of long-term liabilities (7,096) (6,754) (910) (866) Related pledged security deposits 2,127 1,875 273 240 Net current portion of long-term liabilities 14 (4,969) (4,879) (637) (626) Trade and other payables 19 (7,163) (5,543) (919) (711) Unearned transportation revenue (3,622) (2,839) (464) (364) Taxation (1,497) (1,259) (192) (161) (17,251) (14,520) (2,212) (1,862) Net current assets 58 5,831 7 747 Total assets less current and non-current liabilities 32,989 31,156 4,229 3,994 Minority interests (134) (104) (17) (13) Net assets 32,855 31,052 4,212 3,981 CAPITAL AND RESERVES Share capital 20 674 669 86 86 Reserves 21 32,181 30,383 4,126 3,895 Shareholders funds 32,855 31,052 4,212 3,981 The US$ figures are for information only and are translated at HK$7.8. - 11 -
COMPANY BALANCE SHEET at 31st December Note US$M US$M ASSETS AND LIABILITIES Non-current assets and liabilities Fixed assets 9 41,701 43,588 5,346 5,588 Intangible assets 10 172 211 22 27 Investments in subsidiary companies 11 13,108 13,766 1,680 1,765 Investments in associated companies 12 61 76 8 10 Other long-term receivables and investments 13 3,890 1,094 499 140 58,932 58,735 7,555 7,530 Long-term liabilities (26,040) (31,793) (3,338) (4,076) Related pledged security deposits 3,575 4,251 458 545 Net long-term liabilities 14 (22,465) (27,542) (2,880) (3,531) Retirement benefit obligations 15 (166) (224) (21) (29) Deferred taxation 16 (7,113) (7,617) (912) (976) (29,744) (35,383) (3,813) (4,536) Net non-current assets 29,188 23,352 3,742 2,994 Current assets and liabilities Stock 509 387 65 50 Trade and other receivables 17 5,038 4,532 646 581 Liquid funds 18 3,244 6,476 416 830 8,791 11,395 1,127 1,461 Current portion of long-term liabilities (6,327) (6,337) (811) (812) Related pledged security deposits 769 564 98 72 Net current portion of long-term liabilities 14 (5,558) (5,773) (713) (740) Trade and other payables 19 (7,021) (5,634) (900) (723) Unearned transportation revenue (3,622) (2,839) (464) (364) Taxation (1,457) (1,233) (187) (158) (17,658) (15,479) (2,264) (1,985) Net current liabilities (8,867) (4,084) (1,137) (524) Net assets 20,321 19,268 2,605 2,470 CAPITAL AND RESERVES Share capital 20 674 669 86 86 Reserves 21 19,647 18,599 2,519 2,384 Shareholders funds 20,321 19,268 2,605 2,470 The US$ figures are for information only and are translated at HK$7.8. - 12 -
CONSOLIDATED CASH FLOW STATEMENT for the year ended 31st December Note US$M US$M Operating activities Cash generated from operations 22 10,595 6,370 1,359 817 Dividends received from associated companies 122 187 16 24 Interest received 59 49 8 6 Net interest paid (786) (928) (101) (119) Tax paid (785) (815) (101) (104) Net cash inflow from operating activities 9,205 4,863 1,181 624 Investing activities Net decrease in liquid funds other than cash and cash equivalents 884 757 113 98 Receipts from capital reduction, loan and disposal of subsidiary and associated companies 69 11 9 1 Sales of fixed assets 54 27 7 3 Payments for fixed and intangible assets (4,064) (5,147) (521) (660) Net (increase)/decrease in long-term receivables and investments (2,692) 84 (345) 11 Net cash outflow from investing activities (5,749) (4,268) (737) (547) Financing activities New financing 1,746 6,765 224 867 Shares issued 199 56 25 7 Net cash benefit from financing arrangements 51 735 7 94 Loan and finance lease repayments (6,247) (4,995) (801) (640) Security deposits placed (94) (70) (12) (9) Dividends paid - to shareholders - to minority interests (2,189) (69) (1,035) (20) (281) (9) (133) (3) Net cash (outflow)/inflow from financing activities (6,603) 1,436 (847) 183 (Decrease)/increase in cash and cash equivalents (3,147) 2,031 (403) 260 Cash and cash equivalents at 1st January 5,649 3,422 724 439 Effect of exchange differences 155 196 20 25 Cash and cash equivalents at 31st December 23 2,657 5,649 341 724 The US$ figures are for information only and are translated at HK$7.8. - 13 -
CONSOLIDATED STATEMENT OF CHANGES IN EQUITY for the year ended 31st December Non-distributable Share capital Retained profit Share premium Capital redemption reserve Investment revaluation reserve Cash flow hedge reserve Other reserves Total At 1st January 669 23,518 7,261 21 354 (770) (1) 31,052 Prior year adjustment on Asia Miles - (250) - - - - - (250) As restated 669 23,268 7,261 21 354 (770) (1) 30,802 Exchange differences on cash flow hedges - recognised during the year - - - - - (966) - (966) - deferred tax recognised - - - - - 68-68 - transferred to profit for the year - - - - - 383-383 Revaluation surplus recognised during the year - - - - 139 - - 139 Exchange differences - - - - - - 15 15 Net loss not recognised in the profit and loss account - - - - 139 (515) 15 (361) Profit attributable to shareholders - 4,417 - - - - - 4,417 final dividends - (1,515) - - - - - (1,515) interim dividend - (674) - - - - - (674) Capital reserve written back on disposal of an associate - - - - - - (13) (13) Share options exercised - premium received - - 194 - - - - 194 - share capital issued 5 - - - - - - 5 At 31st December 674 25,496 7,455 21 493 (1,285) 1 32,855-14 -
CONSOLIDATED STATEMENT OF CHANGES IN EQUITY for the year ended 31st December Non-distributable Share capital Retained profit Share premium Capital redemption reserve Investment revaluation reserve Cash flow hedge reserve Other reserves Total At 1st January 667 23,250 7,207 21 412 559 (1) 32,115 Exchange differences on cash flow hedges - recognised during the year - - - - - (1,330) - (1,330) - deferred tax recognised - - - - - 90-90 - transferred to profit for the year - - - - - (89) - (89) Revaluation deficit recognised during the year - - - - (58) - - (58) Net loss not recognised in the profit and loss account - - - - (58) (1,329) - (1,387) Profit attributable to shareholders - 1,303 - - - - - 1,303 2002 final dividend - (935) - - - - - (935) interim dividend - (100) - - - - - (100) Share options exercised - premium received - - 54 - - - - 54 - share capital issued 2 - - - - - - 2 At 31st December 669 23,518 7,261 21 354 (770) (1) 31,052-15 -
PRINCIPAL ACCOUNTING POLICIES 1. Basis of accounting The accounts have been prepared in accordance with all applicable Hong Kong Financial Reporting Standards (which include all applicable Hong Kong Accounting Standards ( HKAS ), Hong Kong Financial Reporting Standards ( HKFRS ), Statements of Standard Accounting Practice ( HK SSAP ) and Interpretations) issued by the Hong Kong Institute of Certified Public Accountants ( HKICPA ) with the exception of the recognition of certain exchange differences as explained in accounting policy 4 below. These accounts also comply with the requirements of the Hong Kong Companies Ordinance and the applicable disclosure provisions of the Listing Rules of the Stock Exchange of Hong Kong Limited (the Stock Exchange ). The measurement basis used is historical cost modified by the revaluation of investments as explained in accounting policies 8, 10 and 13 below. HKICPA has issued new and revised standards (HKAS and HKFRS) which are effective for accounting periods beginning on or after 1st January 2005. The Group has decided not to early adopt these new standards in its financial statements for the year ended 31st December except for HKAS 24 Related Party Disclosures. The Group is in the process of making an assessment on the impact of the new standards and has so far concluded that the adoption of them will not have a significant impact on its results of operations and financial position. The Group will continue with the assessment of the impact of the other new standards and significant changes may be identified as a result. 2. Basis of consolidation The consolidated accounts incorporate the accounts of the Company and its subsidiary companies made up to 31st December together with the Group s share of the results and net assets of its associated companies. Subsidiary companies are those entities in which the Group controls the composition of the board of directors, controls more than half the voting power or holds more than half of the issued share capital. The results of subsidiary companies are included in the consolidated profit and loss account and the share attributable to minority interests is deducted from consolidated profit after tax. Where interests have been bought or sold during the year only those results relating to the period of ownership are included in the accounts. Goodwill arising on consolidation represents the excess of the cost of subsidiary and associated companies over the fair value of the Group s share of the net assets at the date of acquisition. Goodwill arising on consolidation is recognised as an intangible asset and amortised on a straight line basis over its estimated useful economic life, not exceeding a period of 20 years. The carrying amount of goodwill is reviewed annually and is written down if any impairment arises. On disposal of a subsidiary or associated company, the unamortised goodwill is included in the calculation of any gain or loss. Minority interests in the consolidated balance sheet comprise the outside shareholders proportion of the net assets of subsidiary companies. In the Company s balance sheet investments in subsidiary companies are stated at cost less any impairment loss recognised. The results of subsidiary companies are accounted for by the Company on the basis of dividends received and receivable. - 16 -
3. Associated companies Associated companies are those companies, not being subsidiary companies, in which the Group holds a substantial long-term interest in the equity share capital and over which the Group is in a position to exercise significant management influence. The consolidated profit and loss account includes the Group s share of results of associated companies as reported in their accounts made up to 31st December. In the consolidated balance sheet investments in associated companies represent the Group s share of net assets and loans to those companies. In the Company s balance sheet, investments in associated companies are stated at cost less any impairment loss recognised and loans to those companies. 4. Foreign currencies Foreign currency transactions entered into during the year are translated into Hong Kong dollars at the market rates ruling at the relevant transaction dates whilst the following items are translated at the rates ruling at the balance sheet date: (i) (ii) foreign currency denominated monetary assets and liabilities (including currency derivatives). the balance sheets of foreign subsidiary and associated companies. Exchange differences arising on the translation of foreign currencies into Hong Kong dollars are reflected in the profit and loss account except that: (i) to reduce exposure to exchange rate fluctuations on future operating cash flows, borrowings and leasing obligations are arranged in foreign currencies such that repayment can be met by anticipated operating cash flows. In addition currency derivatives are used to hedge anticipated cash flows. Any unrealised exchange differences on these borrowings, leasing obligations, currency derivatives and on related security deposits are recognised directly in equity via the Statement of Changes in Equity. These exchange differences are included in the profit and loss account as an adjustment to revenue in the same period or periods during which the hedged transaction affects the net profit and loss. This accounting treatment is supported by that element of International Financial Reporting Standards ( IFRS ) which deals with accounting for hedge transactions. HKAS 39 Financial Instruments: Recognition and Measurement, which is the same as the equivalent IFRS, became effective on 1st January 2005 and replaced HK SSAP 11 which required all such exchange differences be charged to the profit and loss account immediately. Note 21 to the accounts sets out the effect had HK SSAP 11 been adopted. The Directors consider that the immediate recognition of all such exchange fluctuations in the profit and loss account could materially distort year on year results and have concluded that the adopted treatment gives a true and fair view of the financial position, financial performance and cash flow of the Group. (ii) unrealised differences on net investments in foreign subsidiary and associated companies (including intra-group balances of an equity nature) and related longterm liabilities are taken directly to reserves. - 17 -
5. Fixed assets and depreciation Fixed assets are stated at cost less accumulated depreciation and impairment. Depreciation of fixed assets is calculated on a straight line basis to write down cost over anticipated useful lives to estimated residual value as follows: Passenger aircraft Freighter aircraft Other equipment Leasehold land and buildings over 20 years to residual value of between 0% to 10% of cost over 20-27 years to residual value of between 0% to 20% of cost over 3-7 years to nil residual value over the period of the lease to nil residual value Major modifications to aircraft and reconfiguration costs are capitalised as part of aircraft cost and are depreciated over periods of up to 10 years. The depreciation policy and the carrying amount of fixed assets are reviewed annually taking into consideration factors such as changes in fleet composition, current and forecast market values and technical factors which affect the life expectancy of the assets. Any impairment in value is recognised by writing down the carrying amount to estimated recoverable amount which is the higher of the value in use (the present value of future cash flows) and the net selling price. 6. Leased assets Fixed assets held under lease agreements that give rights equivalent to ownership are treated as if they had been purchased outright at fair market value and the corresponding liabilities to the lessor, net of interest charges, are included as obligations under finance leases. Amounts payable in respect of finance leases are apportioned between interest charges and reductions of obligations based on the interest rates implicit in the leases. Operating lease payments and income are charged and credited respectively to the profit and loss account on a straight line basis over the life of the related lease. 7. Intangible assets Intangible assets comprise goodwill and expenditure on computer system development. The accounting policy for goodwill is outlined in accounting policy 2. Expenditure on computer system development which gives rise to economic benefits is capitalised as part of intangible assets and is amortised on a straight line basis over its useful life not exceeding a period of four years. 8. Investments Long-term investments are stated at fair value and any change in fair value is recognised in the investment revaluation reserve. On disposal or if there is evidence that the investment is impaired, the cumulative gain or loss on the investment is transferred from the investment revaluation reserve to the profit and loss account. - 18 -
9. Defeasance of long-term liabilities Where long-term liabilities have been defeased by the placement of security deposits, those liabilities and deposits (and income and charge arising therefrom) are netted off in order to reflect the overall commercial effect of the arrangements. Such netting off has been effected where a right is held by the Group to insist on net settlement of the liability and deposit including in all situations of default and where that right is assured beyond doubt. 10. Retirement benefits Arrangements for staff retirement benefits vary from country to country and are made in accordance with local regulations and customs. The retirement benefit obligation in respect of defined benefit retirement plans refers to the obligation less the fair value of plan assets where the obligation is calculated by estimating the present value of the expected future payments required to settle the benefit that employees have earned using the projected unit credit method. Actuarial gains and losses are not recognised unless their cumulative amounts exceeds either 10% of the present value of the defined benefit obligation or 10% of the fair value of plan assets whichever is greater. The amount exceeding this corridor is recognised on a straight line basis over the expected average remaining working lives of the employees participating in the plans. 11. Deferred taxation Provision for deferred tax is made on all temporary differences. Deferred tax assets relating to unused tax losses and deductible temporary differences are recognised to the extent that it is probable that future taxable profits will be available against which these unused tax losses and deductible temporary differences can be utilised. In addition, where initial cash benefits have been received in respect of certain lease arrangements, provision is made for the future obligation to make tax payments. 12. Stock Stock held for consumption is valued either at cost or weighted average cost less any applicable allowance for obsolescence. Stock held for disposal is stated at the lower of cost and net realisable value. Net realisable value represents estimated resale price. 13. Funds with investment managers and other liquid investments Funds with investment managers and other liquid investments are valued on a mark to market basis and any gain or loss arising from the revaluation is taken to the profit and loss account. Cash deposits and notes placed in respect of certain leasing and financing arrangements are stated at cost while other investments purchased to meet future leasing obligation repayments are stated at amortised cost. 14. Revenue recognition Passenger and cargo sales are recognised as revenue when the transportation service is provided. The value of unflown passenger and cargo sales is recorded as unearned transportation revenue. Income from catering and other services is recognised when the services are rendered. - 19 -
15. Fuel price derivatives Fuel derivatives are used to reduce exposure to fluctuating fuel prices. Gains and losses on these instruments are recognised upon contract expiry as a component of fuel expense during the period the related fuel is used. 16. Maintenance and overhaul costs Replacement spares and labour costs for maintenance and overhaul of aircraft are charged to the profit and loss account on consumption and as incurred respectively. 17. Frequent-flyer programme The Company operates a frequent-flyer programme called Asia Miles ( the programme ). The incremental cost of providing awards in exchange for redemption of miles earned by members is accrued as an operating cost and a liability after allowing for miles which are not expected to be redeemed. As members redeem their miles the liability is reduced to reflect the reduction in the outstanding obligation. The Company sells miles to participating partners in the programme. In the past, revenue earned from selling miles was recognised immediately. That portion of revenue earned from miles sold which is expected to be redeemed on Cathay Pacific s flights is now deferred and amortised to the profit and loss account over the expected redemption period. As a result of this change, the retained earnings as at 1st January and the attributable profit to shareholders in are reduced by HK$250 million and HK$58 million respectively. Comparative figures have not been restated as the impact is immaterial. 18. Related parties Related parties were previously considered to be related to the Group if the Group had the ability, directly or indirectly, to control the party or exercise significant influence over the party in making financial and operating decisions, or vice versa, or where the Group and the party were subject to common control or common significant influence. Related parties may be individuals or entities. With the introduction of HKAS 24, parties that are subject to significant influence by shareholders of Cathay Pacific are no longer defined as related parties. Comparatives have been restated to comply with this new definition. - 20 -
NOTES TO THE ACCOUNTS 1. Nature of operations and principal activities The Group is predominantly managed and controlled in Hong Kong. As well as operating scheduled airline services, the Group is engaged in other related areas including airline catering, aircraft handling and engineering. The airline operations are principally to and from Hong Kong, which is where most of the Group s other activities are also carried out. 2. Turnover Turnover comprises revenue from transportation services, airline catering and other services provided to third parties. (a) Primary reporting by geographical segment Turnover by origin of sale: North Asia - Hong Kong and Mainland China 14,854 12,022 - Japan, Korea and Taiwan 6,961 5,208 South West Pacific and South Africa 3,010 2,125 Europe 4,770 3,551 South East Asia and Middle East 4,452 3,395 North America 5,018 3,277 39,065 29,578 South West Pacific and South Africa includes Australia, New Zealand and Southern Africa. Europe includes Continental Europe, United Kingdom, Scandinavia, Russia, Baltic and Turkey. South East Asia and Middle East includes Singapore, Indonesia, Malaysia, Thailand, the Philippines, Vietnam, Indian sub-continent and Middle East. North America includes U.S.A., Canada and Latin America. Analysis of turnover and profit by geographical segment: The analysis of turnover by origin of sale is derived by allocating revenue to the area in which the sale was made. Management considers that it is not meaningful to allocate cost on this basis and accordingly segment results are not disclosed. Analysis of net assets by geographical segment: The major revenue earning asset is the aircraft fleet which is registered in Hong Kong and is employed across its worldwide route network. Management considers that there is no suitable basis for allocating such assets and related liabilities to geographical segments. Accordingly, segment assets, segment liabilities and other segment information is not disclosed. - 21 -
2. Turnover (continued) (b) Secondary reporting by business segment Revenue external sales - Passenger services 26,407 18,663 - Cargo services 11,395 9,913 Unallocated revenue 37,802 28,576 - Catering and other services 1,263 1,002 39,065 29,578 The Group is engaged in two main business segments: in passenger business through the Company and in freight traffic through the Company and a subsidiary. Catering services and other airline supporting services which supplement the Group s main operating business are included in unallocated revenue. Analysis of net assets by business segment: The major revenue earning asset is the aircraft fleet which is jointly used by the passenger services and cargo services segments. Management considers it is not appropriate to allocate such assets between the two segments as there is no suitable basis for so doing. Accordingly, analysis of net assets by business segment is not disclosed. 3. Operating profit Operating profit has been arrived at after charging/(crediting): Depreciation of fixed assets - Leased 1,855 1,930 - Owned 1,946 1,815 Amortisation of intangible assets 84 110 Operating lease rentals - Land and buildings 326 324 - Aircraft and related equipment 948 675 - Others 34 19 Operating lease income - Aircraft and related equipment (23) (13) Cost of stock expensed 1,224 933 Exchange differences (199) (244) Auditors remuneration 6 6 Income from unlisted investments (103) (267) Income from listed investments (3) (6) - 22 -
4. Net finance charges Net interest charges comprise: - Obligations under finance leases 1,522 1,678 - Interest income on related security deposits, notes and bonds (837) (966) 685 712 - Bank loans and overdrafts 92 112 - Interest income on related security deposits - (4) 92 108 - Other loans wholly repayable within five years 8 3 - Other loans not wholly repayable within five years 6 14 791 837 Income from liquid funds: - Funds with investment managers (97) (106) - Bank deposits and investments (111) (111) (208) (217) 583 620 Finance income and charges relating to defeasance arrangements have been netted off in the above figures. 5. Taxation The Company and its subsidiary companies: Current tax expenses - Hong Kong profits tax 55 50 - Overseas tax 276 248 - Under provisions for prior years 24 84 Deferred tax - Origination and reversal of temporary differences 91 (62) - Increase in tax rate - 64 Associated companies: 446 384 - Hong Kong profits tax 40 16 - Overseas tax 18 9 504 409 Hong Kong profits tax is calculated at 17.5% (: 17.5%) on the estimated assessable profits for the year. Overseas tax is calculated at rates of tax applicable in countries to which the Group is assessable for tax. Tax provisions are reviewed regularly to take into account changes in legislation, practice and status of negotiations. - 23 -
5. Taxation (continued) A reconciliation between tax charge and accounting profit at applicable tax rates is as follows: Consolidated profit before tax 5,020 1,756 Notional tax calculated at Hong Kong profits tax rate of 17.5% (: 17.5%) (879) (307) Expenses not deductible for tax purposes (156) (143) Tax provisions under provided in prior years (24) (84) Unused tax losses not recognised - (137) Effect on opening deferred tax balances resulting from a change in tax rate - (64) Effect of different tax rates in overseas jurisdictions 418 246 Tax losses recognised 63 - Income not subject to tax 74 80 Tax charge (504) (409) Further information on deferred tax is shown in note 16 to the accounts. 6. Profit attributable to shareholders Of the profit attributable to the shareholders, a profit of HK$3,781 million (: HK$818 million) has been dealt with in the accounts of the Company. 7. Dividends interim dividend paid on 4th October of HK 20 per share (: HK 3 per share) 674 100 final dividend proposed on 9th March 2005 of HK 45 per share (: HK 17 per share) 1,517 572 special dividend paid on 2nd June of HK 28 per share - 943 2,191 1,615 8. Earnings per share Basic earnings per share and diluted earnings per share are calculated by dividing the profit attributable to shareholders of HK$4,417 million (: HK$1,303million) by the daily weighted average number of shares in issue throughout the year of 3,362 million (: 3,338 million) shares and 3,379 million (: 3,357 million) shares respectively with the latter adjusted for the effects of the share options. Million Million Weighted average number of ordinary shares used in calculating basic earnings per share 3,362 3,338 Deemed issue of ordinary shares for no consideration 17 19 Weighted average number of ordinary shares used in calculating diluted earnings per share 3,379 3,357-24 -
9. Fixed assets Aircraft and related equipment Other equipment Properties Owned Leased Owned Leased Owned Total Group Cost At 1st January 24,760 44,109 2,328 547 6,292 78,036 Exchange differences 2-3 - 5 10 Additions 3,798 446 84-1 4,329 Disposals (377) - (111) - (9) (497) Transfers 1,374 (1,374) - - - - At 31st December 29,557 43,181 2,304 547 6,289 81,878 Accumulated depreciation At 1st January 11,591 12,055 1,517 234 1,282 26,679 Exchange differences - - 2-2 4 Charge for the year 1,600 1,831 147 24 199 3,801 Disposals (302) - (110) - (2) (414) Transfers 944 (944) - - - - At 31st December 13,833 12,942 1,556 258 1,481 30,070 Net book value At 31st December 15,724 30,239 748 289 4,808 51,808 At 1st January 13,169 32,054 811 313 5,010 51,357 Company Cost At 1st January 19,054 46,007 850 547 408 66,866 Additions 1,641-45 - - 1,686 Disposals (224) - (108) - (9) (341) Transfers 1,769 (1,769) - - - - At 31st December 22,240 44,238 787 547 399 68,211 Accumulated depreciation At 1st January 9,232 12,774 718 234 320 23,278 Charge for the year 1,468 1,918 57 24 23 3,490 Disposals (149) - (107) - (2) (258) Transfers 944 (944) - - - - At 31st December 11,495 13,748 668 258 341 26,510 Net book value At 31st December 10,745 30,490 119 289 58 41,701 At 1st January 9,822 33,233 132 313 88 43,588-25 -
9. Fixed assets (continued) (a) Finance leased assets Certain aircraft are subject to leases with purchase options to be exercised at the end of the respective leases. The remaining lease terms range from 1 to 13 years. Some of the rent payments are on a floating basis which are generally linked to market rates of interest. All leases permit subleasing rights subject to appropriate consent from lessors. Early repayment penalties would be payable on some of the leases should they be terminated prior to their specified expiry dates. (b) Operating leased assets Certain aircraft, properties and other equipment are under operating leases. Under the operating lease arrangements for aircraft, the lease rentals are fixed and subleasing is not allowed. At 31st December, three B747-400s (: two), four A340-300s (: four) and three A340-600s (: three), all with purchase options, held under operating leases were not capitalised. The estimated capitalised value of these leases being the present value of the aggregate future lease payments is HK$1,315 million (: HK$1,585 million). Operating leases for properties and other equipment are normally set with fixed rental payments with options to renew the leases upon expiry at new terms. The future minimum lease payments payable under operating leases committed as at 31st December for each of the following periods are as follows: Aircraft and related equipment: - within one year 1,144 740 - after one year but within five years 1,883 1,460 - after five years 389-3,416 2,200 Properties and other equipment: - within one year 261 255 - after one year but within five years 418 470 - after five years 175 204 854 929 4,270 3,129 (c) Advance payments are made to manufacturers for aircraft and related equipment to be delivered in future years. Advance payments included in owned aircraft and related equipment amounted to HK$2,698 million (: HK$1,813 million) for the Group and HK$197 million (: HK$136 million) for the Company. No depreciation is provided on these advance payments. (d) Security, including charges over the assets concerned and relevant insurance policies, is provided to the leasing companies or other parties that provide the underlying finance. (e) Properties held at 31st December included land held under medium-term leases in Hong Kong with a net book value of HK$1,549 million (: HK$1,586 million). - 26 -
10. Intangible assets Cost Goodwill Group Computer systems Total Company Computer systems At 1st January 362 665 1,027 642 Additions - 27 27 27 Disposals (4) (52) (56) (52) At 31st December 358 640 998 617 Accumulated amortisation At 1st January 169 453 622 431 Charge for the year 17 67 84 66 Disposals (4) (52) (56) (52) At 31st December 182 468 650 445 Net book value At 31st December 176 172 348 172 At 1st January 193 212 405 211 11. Subsidiary companies Company Unlisted shares at cost 214 214 Net amounts due (to)/from subsidiary companies - Loan accounts (6,318) (10,679) - Current accounts 530 2,176 Other investments 18,682 22,055 13,108 13,766 Principal subsidiary companies are set out in note 29 to the accounts. - 27 -
12. Associated companies Hong Kong listed shares at cost (Market value: Group Company HK$1,913 million, : HK$2,100 million) - - 52 52 Unlisted shares at cost - - 26 38 Share of net assets - listed in Hong Kong 863 829 - - - unlisted 773 726 - - 1,636 1,555 78 90 Less: Provision - - (17) (17) Loans to associated companies 107 106-3 Share of profits of associated companies 1,743 1,661 61 76 - listed 140 113 - - - unlisted 216 38 - - Dividends received and receivable from 356 151 - - associated companies 122 187 97 157 Principal associated companies are set out in note 30 to the accounts. 13. Other long-term receivables and investments Group Company Staff housing loans and other receivables 403 443 395 433 Investments at fair value - listed in Hong Kong 2,891 157 2,715 - - listed outside Hong Kong 51 51 49 49 - unlisted 731 612 731 612 4,076 1,263 3,890 1,094-28 -
14. Long-term liabilities Note Current Non-current Current Non-current Group Long-term loans (a) 1,229 2,765 1,983 4,387 Obligations under finance leases (b) 3,740 14,897 2,896 17,031 4,969 17,662 4,879 21,418 Company Long-term loans (a) 478 1,514 2,052 3,115 Obligations under finance leases (b) 5,080 20,951 3,721 24,427 5,558 22,465 5,773 27,542 (a) Long-term loans Group Company Bank loans - secured 2,328 3,304 673 1,931 - unsecured 894 2,784 894 2,784 Other loans - secured 425 452 425 452 - unsecured 347 372 - - 3,994 6,912 1,992 5,167 Security deposits - (542) - - Amount due within one year included under current liabilities (1,229) (1,983) (478) (2,052) 2,765 4,387 1,514 3,115 Repayable as follows: Bank loans - within one year 846 2,465 409 1,992 - after one year but within two years 1,376 893 1,137 510 - after two years but within five years 528 2,474 11 2,199 - after five years 472 256 10 14 3,222 6,088 1,567 4,715 Other loans - within one year 383 60 69 60 - after one year but within two years 74 393 74 64 - after two years but within five years 266 263 233 220 - after five years 49 108 49 108 772 824 425 452 Security deposits - (542) - - Amount due within one year included under current liabilities (1,229) (1,983) (478) (2,052) 2,765 4,387 1,514 3,115-29 -
14. Long-term liabilities (continued) Borrowings other than bank loans are repayable on various dates up to 2010 at interest rates between 0% and 7% per annum while bank loans are repayable up to 2018. Long-term loans and other liabilities of the Group and the Company not wholly repayable within five years amounted to HK$999 million and HK$279 million respectively (: HK$954 million and HK$483 million). As at 31st December, the Group and the Company had long-term liabilities which were defeased by funds and other investments totalling HK$23,234 million (: HK$28,000 million). Accordingly, these liabilities and the related funds, as well as related expenditure and income, have been netted off in the accounts. (b) Obligations under finance leases The Group has commitments under finance lease agreements in respect of aircraft and related equipment expiring during the years 2005 to 2017. The future payments under these finance leases are as follows: Group Company Within one year 6,899 5,328 6,826 5,350 After one year but within two years 3,892 6,679 4,212 6,690 After two years but within five years 9,498 10,598 11,162 11,916 After five years 19,015 19,874 19,679 22,315 Total future payments 39,304 42,479 41,879 46,271 Interest charges relating to future periods (8,504) (9,615) (11,504) (13,308) Present value of future payments 30,800 32,864 30,375 32,963 Security deposits, notes and zero coupon bonds (12,163) (12,937) (4,344) (4,815) Amounts due within one year included under current liabilities (3,740) (2,896) (5,080) (3,721) 14,897 17,031 20,951 24,427 The present value of future payments is repayable as follows: Group Company Within one year 5,867 4,229 5,849 4,285 After one year but within two years 3,054 5,609 3,426 5,688 After two years but within five years 7,405 8,125 9,050 9,359 After five years 14,474 14,901 12,050 13,631 30,800 32,864 30,375 32,963 As at 31st December, the Group and the Company had obligations under finance leases which were defeased by funds and other investments amounting to HK$8,735 million and HK$1,556 million respectively (: HK$8,186 million and HK$1,554 million). Accordingly these liabilities and the related funds, as well as related expenditure and income, have been netted off in the accounts. - 30 -